McDonald's (MCD 0.38%) CEO Steve Easterbrook is making Ronald McDonald and Hamburglar so much money they can retire from their clowning and robbery careers. Since taking the reins from prior CEO Don Thompson, Easterbrook has nearly doubled the S&P 500's return, with a 50% gain versus 27%. However, 2018 has been a little tougher for the turnaround-focused CEO, with McDonald's stock giving back some of the gains Easterbrook achieved over the nearly three years of his leadership.
As of this writing shares are down roughly 20% in 2018, and total gains under Easterbrook are down from the 75% gain at the end of 2017. More recently, shares fell as a research note from RBC Capital Markets cut its price target from $190 per share to $170 per share, on concerns about deteriorating industry conditions. What should investors make of this new note?
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Signs of Don Thompson?
Easterbrook has turned McDonald's around by avoiding many of the mistakes of his predecessor, most notably on the value menu. The value menu is important to McDonald's, as the company operates on a barbell-type business model. At one end of the barbell, lower-price sandwiches are used as loss leaders to increase traffic, and at the other end, higher-priced menu items like Big Macs or high-margin add-ons like sodas and fries help to build profit.
Nearly six years ago Thompson abandoned the Dollar Menu in favor of the Dollar and More Menu, as food inflation had squeezed franchisee margins. Unfortunately, once the promotion no longer had an anchor price of $1, its value proposition became unclear; this precipitated a string of decreases in the heavily watched same-store sales metric and, with other missteps, led to Thompson's ouster.
Easterbrook had some success with the McPick2 menu, but grew traffic more by adding premium burgers and all-day breakfast. Now the CEO has turned his attention to revamping the value side by instituting the "$1 $2 $3 Dollar Menu," keeping the anchored price points but committing Thompson's mistake of failing to provide a clear value proposition. According to RBC, the $1 $2 $3 Dollar Menu is struggling as well, leading to a drastically lowered estimate of growth in U.S. sales -- from 3.5% to 1%.
Long-term investors shouldn't sell, but rather look to add positions
Despite RBC's short-term bearishness, the analyst company said McDonald's "long-term prospects remain strong." Easterbrook's full turnaround plans of mobile ordering and payments, delivery alternatives, and customer experience upgrades have yet to be fully implemented, and will most likely continue to boost the company's comparable-store sales. Last year McDonald's increased global comparable sales at a clip of 5.3%, the best in six years.
Even with the incredible run under Easterbrook, shares of McDonald's are not too richly valued due to the recent sell-off. Compared to the S&P 500, with a forward price-to-earnings ratio of 17, McDonald's trades at 19.5. The company has been generous in returning cash under Easterbrook, and currently yields 2.7% versus the 1.9% from the greater index.
The company expects to return $24 billion (approximately 20% of its current market cap) to shareholders, both in dividends and through share buybacks, in the three-year period ending 2019. Subtracting the $8 billion paid out in 2017, McDonald's expects to pay $16 billion in the next two years, most likely via $6 billion in dividends and $10 billion in share repurchases. Instead of looking to sell, long-term investors may want to add positions, to take advantage of Wall Street's quarterly-focused myopia.
